RESTRUCTURING PAPER ON A PROPOSED PROJECT RESTRUCTURING ACCESS TO LONGER TERM FINANCE FOR MICRO, SMALL AND MEDIUM ENTERPRISES PROJECT

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1 Public Disclosure Authorized REPORT NO.: RES33563 RESTRUCTURING PAPER Public Disclosure Authorized ON A PROPOSED PROJECT RESTRUCTURING OF ACCESS TO LONGER TERM FINANCE FOR MICRO, SMALL AND MEDIUM ENTERPRISES PROJECT APPROVED ON NOVEMBER 18, 2016 TO ARGENTINE REPUBLIC Public Disclosure Authorized FINANCE, COMPETITIVENESS AND INNOVATION LATIN AMERICA AND CARIBBEAN Public Disclosure Authorized Regional Vice President: Country Director: Senior Global Practice Director: Practice Manager/Manager: Task Team Leader: Jorge Familiar Calderon Jesko S. Hentschel Najy Benhassine Zafer Mustafaoglu Bujana Perolli

2 ABBREVIATIONS AND ACRONYMS ARS BADLAR BCRA BDS BICE CAR DA FM FSAP GDP GRS IT LAC LCIP MoF MoP MSME NPL OM PDO PFI PIU ROA ROE SEPYME SA SGRs SME WB Argentine Peso (ARS) Buenos Aires Deposits of Large Amount Rate Central Bank of Argentina (Banco Central de la República de Argentina) Business Development Services Bank for Investment and Foreign Trade (Banco de Inversión y Comercio Exterior S.A.) Capital Adequacy Ratio Designated Account Financial Management Financial Sector Assessment Program Gross Domestic Product Grievance Redress Service Information Technology Latin America and the Caribbean Line of Credit for Productive Investments (Línea de crédito para la inversión productiva) Ministry of Treasury Ministry of Production Micro, Small, and Medium Enterprise Non-performing Loan Operational Manual Project Development Objective Participating Financial Institution Project Implementation Unit Return On Assets Return On Equity MSME and Regional Development Department (Secretaría de Emprendedores y Pequeña y Mediana Empresa) Subsidiary Agreement Mutual Guarantee Associations (Sociedades de Garantías Recíprocas) Small and Medium Enterprise World Bank

3 BASIC DATA Product Information Project ID P Original EA Category Financial Intermediary Assessment (F) Approval Date 18-Nov-2016 Financing Instrument Investment Project Financing Current EA Category Financial Intermediary Assessment (F) Current Closing Date 30-Nov-2021 Organizations Borrower Argentine Republic Responsible Agency Banco de Inversión y Comercio Exterior (BICE) Project Development Objective (PDO) Original PDO The Project Development Objectives (PDO) are to improve access to, and strengthen the framework for the provision of, longer term finance for eligible micro, small and medium enterprises. Summary Status of Financing Ln/Cr/Tf Approval Signing Effectiveness Closing Net Commitment Disbursed Undisbursed IBRD Nov Apr Nov Policy Waiver(s) Does this restructuring trigger the need for any policy waiver(s)? No

4 I. PROJECT STATUS AND RATIONALE FOR RESTRUCTURING Project Status The Project Loan Agreement (LA) was signed on April 20, 2018, 17 months after Board approval, a delay caused by institutional changes that resulted in extended processing times. The Conditions of Effectiveness have been satisfied and is expected that effectiveness will be declared after this restructuring, which introduces changes requested by the Borrower. A first restructuring of the project was conducted in January 2018 and introduced modifications to the Disbursement Letter and Legal Agreement to reflect minor changes to the flow of funds arrangements. This restructuring is proposed as the recent turmoil in the economy affects the Project s initial design of peso lending to MSMEs, because credit demand in pesos has been suppressed due to higher interest rates and companies delaying borrowing for investments in the current uncertainty. Rationale for Restructuring Given the SME credit tightening in pesos, the Project would support financial institutions to extend US$ dollar longer-term lending to SME exporters, or to SME companies whose income is positively correlated with foreign currency (FX). This would be in addition to the peso lending, when there is demand for it as the macroeconomic situation stabilizes. Macroeconomic conditions, in particular, high inflation and high interest rates, are a key challenge for access to finance for MSMEs in Argentina and thus for this operation. Following the interest rates increases in mid-2018, in part to prevent excessive currency depreciation, local currency financing costs for MSMEs have become prohibitive. The current reference interest rate (BADLAR) at 60 percent and increased reserve requirements by the Central Bank have had implications for the availability and cost of local currency financing. Along with macroeconomic uncertainty, this has resulted in reduced credit demand in pesos. The restructuring would enable the option of U.S. Dollar lending along with peso lending, depending on market conditions and SME financing needs. This supports Argentina s objectives to recover growth through supporting its export sector. If the project was not restructured to introduce this flexibility, it would lose its relevance until the macroeconomic context improves. The project aims to extend maturities and support SMEs with investment loans of at least 3-year maturity (a small share of the funds can be used for working capital, with a minimum of 12 months maturity). The addition of a U.S. Dollar credit line would provide the option of longer-term U.S. Dollar funding to the banks, responding to an increased demand for longer-term U.S. Dollar funding to support the financing needs of exporting companies. The U.S. Dollar funding would be used to channel loans to exporting SMEs, or to companies whose income is positively correlated with foreign currency, in line with Central Bank regulations, and the peso lending would be used for all MSMEs. In the current macroeconomic conditions, SMEs may prefer FX loans, but as the macroeconomic situation stabilizes, inflation comes down, and the BADLAR rate declines, peso loans may become attractive. The original Project design foresaw the expected challenges for this operation, and the deterioration of recent macroeconomic conditions have increased the challenges. The Project s PDO, of improving access and strengthening the framework for the provision of longer-term finance for eligible micro, small and medium enterprises, is not affected by the proposed changes. The Project, through Component 2, which focuses on institutional strengthening of BICE, financial

5 infrastructure reforms, and capacity building of MSMEs, continues to support the enabling environment for improved access to finance for all MSMEs. This Project supports Argentina s growth agenda and complements other Development Finance Institutions (DFIs) projects supporting access to finance for MSMEs in Argentina, including FONPLATA, the IDB and the EIB. In particular, the Project will complement IFC initiatives by providing a longer-term funding facility to the banking sector (BICE has more than 20 qualified participating lenders) for on-lending longer term loans to SMEs. II. DESCRIPTION OF PROPOSED CHANGES This restructuring paper introduces four changes: (a) revising the design of Component 1 (Line of Credit) to enable both US$ funding and local currency funding for on-lending to MSMEs in both currencies; (b) adjusting activities in Component 2; (c) revising the Results framework; and (d) revising the flow of funds and disbursement arrangements. The proposed changes do not entail a change in PDO, scope, or implementation arrangements. The proposed changes are reflected in an updated Operational Manual and in an amended Disbursement Letter, and do not require changes to the LA. 1. Revising the design of Component 1 (Line of Credit) to enable BICE to offer both US$ funding and local currency funding to the banking sector to onlend to MSMEs in both currencies While the Subsidiary Agreement between MoP/MoF and BICE will still be denominated in local currency, the proposed change would provide flexibility in light of the current market conditions for BICE to offer the product in both U.S. Dollar and pesos to banks, in order to respond to increased market demand for FX denominated loans given that interest rates in pesos are excessively high. 2. Revising activities in Component 2 - Institutional capacity building of BICE, financial infrastructure reforms, credit guarantee fund, and capacity building for MSMEs The scope of activities in this component remains the same, with minor adjustments. Related to the financial infrastructure reforms (secured transactions and the insolvency framework) as previously planned, the Project will support preparatory activities for the modernization of the Borrower s insolvency framework, and the strengthening of the Borrower s public credit guarantee fund, including, inter alia: (i) conducting a diagnostic of the secured transactions framework in Argentina, in comparison with good practice and other LAC countries, building further on an analysis conducted by the WB in 2016, and based on the findings propose legal, regulatory, and institutional changes; (ii) conducting a diagnostic of the insolvency framework and proposing legal and regulatory recommendations; and (iii) strengthening of the national Partial Credit Guarantee Scheme (FOGAR), which has started pilot operations. In addition, under sub-component 2.3, the Project provides support for strengthening the MSME support programs of SEPYME, through the provision of business development and management tools aiming to make MSMEs more bankable. As part of this sub-component, support will be provided for the implementation of a Central Balance Sheet Platform that would require the mandatory submission of companies financials, improving the transparency of their information, and thus contributing to improved bankability. 3. Revising the results framework PDO indicators remain the same. Some intermediate indicators were revised. The rationale for revising, adding, or removing intermediate results indicators is detailed in the results matrix below, and as follows:

6 - Draft proposal for reform of the legal, regulatory, and institutional framework for secured transactions submitted for approval to the Ministry of Treasury (revised indicator from Draft secured transactions law submitted for approval ) - Draft insolvency law amendments, and related regulations, submitted for approval to the Ministry of Treasury (revised indicator from: Draft Insolvency law amendments submitted for approval ) - Credit Guarantee Fund (FOGAR) is operationalized (revised indicator) - Central Balance Sheet Platform is functional (new indicator) - Modern movable collateral registry established (removed indicator) - Indicators on Portfolio at Risk SME, Return on Equity, and Outstanding SME Loan Portfolio (removed from the Results Matrix and moved to the Operational Manual for monitoring purposes) 4. Revising the flow of funds and disbursement arrangements The flow of funds (disbursement arrangements) for the Project will change. Project funds will be disbursed into a U.S. Dollar denominated Designated Account in the National Bank of Argentina (Banco de la Nación Argentina) held by the MoP. The funds will then be transferred (converted) to a local currency operating account held by the MOP, and then subsequently transferred to a local currency operating account held by BICE (to be used to make local currency payments under Components 2 and 3 and onlend in local currency to PFIs, under Component 1). BICE will also open a U.S. Dollar denominated operating account, to receive transfers from its local currency operating account, to make any U.S Dollar payments under Components 2 and 3 and on-lend in U.S. dollars to PFIs under Component 1. MoP s role will be limited to transfer the funds to the local currency operating account held by BICE, upon their request (and based on reasonable projections), as established in the subsidiary agreement between MoP, MoF, and BICE. BICE will retain all the financial management responsibilities associated to the execution of the Project. The Disbursement Letter is also being revised to indicate the supporting documentation required for reporting eligible expenditures paid from the Designated Account, which was previously not specified. The flow of funds is presented below:

7 III. SUMMARY OF CHANGES Changed Results Framework Not Changed Disbursements Arrangements Disbursement Estimates Overall Risk Rating Implementation Schedule Implementing Agency DDO Status Project's Development Objectives Components and Cost Loan Closing Date(s) Cancellations Proposed Reallocation between Disbursement Categories Safeguard Policies Triggered EA category Legal Covenants Institutional Arrangements Financial Management Procurement Other Change(s) Economic and Financial Analysis Technical Analysis Social Analysis Environmental Analysis IV. DETAILED CHANGE(S)

8 OPS_DETAILEDCHANGES_SORT_TABLE OPS_DETAILEDCHANGES_DISBURSEMENT_TABLE DISBURSEMENT ESTIMATES Change in Disbursement Estimates Yes Year Current Proposed ,000, ,000, ,999, ,000, ,000, ,000, , ,000, ,000, SYSTEMATIC OPERATIONS RISK-RATING TOOL (SORT) Risk Category Rating at Approval Current Rating Political and Governance Moderate Moderate Macroeconomic Substantial High Sector Strategies and Policies Moderate Moderate Technical Design of Project or Program Moderate Substantial Institutional Capacity for Implementation and Sustainability Moderate Moderate Fiduciary Moderate Moderate Environment and Social Substantial Substantial Stakeholders Moderate Moderate Other Overall Substantial Substantial

9 RESULT_FRAME_TBL_PDO. Results framework COUNTRY: Argentina Access to Longer Term Finance for Micro, Small and Medium Enterprises Project Project Development Objectives(s) The Project Development Objectives (PDO) are to improve access to, and strengthen the framework for the provision of, longer term finance for eligible micro, small and medium enterprises. Project Development Objective Indicators by Objectives/ Outcomes Indicator Name DLI Baseline Intermediate Targets End Target Improve access to, and strengthen the framework for the provision of, longer term finance for MSMEs (Action: This Objective is New) Ratio of the average portfolio maturity of MSME sub-loans under the project, over the average portfolio maturity of PFI s MSME lending portfolio not financed under the project. (Text) 0.00 >1 >1 >1 >1 This indicator is revised to adjust the unit of measure of the indicator. The previous version of the portal (when this Project was prepared) did not offer the option to include text. Now the indicator clearly indicates that the expected target is "higher than one" (>1). BICE has a dedicated unit for risk management of second tier operations, with improved capacity for quantitative and qualitative analysis of risks (Yes/No) No Yes Yes Yes Yes

10 RESULT_FRAME_TBL_PDO RESULT_FRAME_TBL_IO Indicator Name DLI Baseline Intermediate Targets End Target This indicator is revised to adjust the unit of measure of the indicator. The previous version of the portal (when this Project was prepared) did not offer the "yes/no" option. New business development service platform operated by SEPYME developed and functioning (Yes/No) No No No No Yes This indicator is revised to adjust the unit of measure of the indicator. The previous version of the portal (when this Project was prepared) did not offer the "yes/no" option. PDO Table SPACE Intermediate Results Indicators by Components Indicator Name DLI Baseline Intermediate Targets End Target Component 1: Line of credit (Action: This Component is New) Volume of Bank Support: Lines of Credit - SME (Amount(USD)) ,100, ,000, ,100, ,000, This indicator is revised to adjust the revolving estimated amount based on the number of years left for project implementation and the revised assumptions for its calculation.

11 RESULT_FRAME_TBL_IO Indicator Name DLI Baseline Intermediate Targets End Target Volume of Bank Support: Lines of Credit - SME (Amount(USD)) ,500, ,000, ,250, ,500, ,000, This indicator will be deleted. This indicator is repeated. Marked for Deletion Number of sub-loans provided by selected PFIs to MSMEs with Project funds (cumulative) (Number) This indicator is revised to adjust the estimated number of sub-loans provided by selected PFIs to MSMEs with Project funds based on the number of years left for project implementation and the revised assumptions for its calculation. Portfolio at Risk - SME (CRI, Percentage) This indicator was marked for deletion and moved to the Project Operational Manual for monitoring purposes. Marked for Deletion Return on Assets/Equity (CRI, Percentage) This indicator was marked for deletion and moved to the Project Operational Manual for monitoring purposes. Marked for Deletion Outstanding SME Loan Portfolio (CRI, Amount(USD)) 2,900,000, ,900,000,000.00

12 RESULT_FRAME_TBL_IO Indicator Name DLI Baseline Intermediate Targets End Target This indicator was marked for deletion and moved to the Project Operational Manual for monitoring purposes. Marked for Deletion Percentage of MSME beneficiaries that feel project sub-finance reflected their needs (Percentage) Component 2: Institutional capacity building, financial infrastructure reforms, MSME support (Action: This Component is New) Draft proposal for reform of the legal, regulatory, and institutional framework for secured transactions submitted to the Ministry of Treasury (Yes/No) No No Yes Yes Yes This indicator is revised to: i) adjust the unit of measure of the indicator. The previous version of the portal (when this Project was prepared) did not offer the "yes/no" option; and, ii) adjust the scope of the indicator based on the number of years left for project implementation. Credit guarantee fund (FOGAR) is operationalized (Yes/No) No No Yes Yes Yes This indicator is revised to: i) adjust the unit of measure of the indicator. The previous version of the portal (when this Project was prepared) did not offer the "yes/no" option; and, ii) adjust the name of the fund, FOGAR ( Fondo de Garantías Argentino). The Act , Decree 628/18 replaced FOGAPYME to FOGAR.

13 RESULT_FRAME_TBL_IO Indicator Name DLI Baseline Intermediate Targets End Target Modern movable collateral registry established (Number) Marked for Deletion Draft Insolvency law amendments, and related regulations, submitted to the Ministry of Treasury (Yes/No) No No Yes Yes Yes This indicator is revised to: i) adjust the unit of measure of the indicator. The previous version of the portal (when this Project was prepared) did not offer the "yes/no" option; and, ii) adjust the scope of the indicator to include the draft of regulations related to the insolvancy law. Central Balance Sheet Platform is functional (Yes/No) Action: This indicator is New No No No No Yes This indicator is added because the Project will support the preparatory work for creating a Central Balance Sheet Platform (SBCP). IO Table SPACE.

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